INCOME SMOOTHING: IMPACT FACTORS, EVIDENCE IN INDONESIA.
International Journal of Small Business and Entrepreneurship Research
Vol.3, No.1, pp. 21-27, January 2014
Published by European Centre for Research Training and Development UK (www.eajournals.org)
INCOME SMOOTHING: IMPACT FACTORS, EVIDENCE IN INDONESIA
Moh. Benny Alexandri
Universitas Padjadjaran
Address : Jl. Dakota 40 Sukaraja II Bandung Indonesia 40175
Winny Karina Anjani
Universitas Padjadjaran
ABSTRACT: Indonesia's banking sector is expected to improve the performance management
productivity positive direction (in other words the emphasis on earnings quality and performance
should be improved), and making it into the (Association of Southeast Asia Nations) ASEAN free
market in 2020 and became the largest bank in ASEAN.The aim of this study are to determine the
factors that affect income smoothing on the National Private Commercial Foreign Exchange
Banks that listed in Indonesia Stock Exchange (IDX). Variables used in this study are the firm size,
profitability and financial leverage. Eckel Index (1981) was used to measure income smoothing,
where net profit after tax as income smoothing object.The sample was taken by random sampling
of 10 private foreign exchange national banks that listed in Indonesia Stock Exchange (IDX)
during the years 1/1/2009 to 31/12/2013 with a sub-sample of 50 financial reports. Testing is done
through panel data analysis technique with simultaneous test (F test) and partial test (t test) was
used to identify factors that affect income smoothing.The results showed that income smoothing is
done by most of the National Private Commercial Foreign Exchange Bank which listed on the
Indonesia Stock Exchange (IDX). The test results result are variable size of the company,
profitability and financial leverage simultaneously significant effect on income smoothing. Partial
test results are that the variable size of the company, profitability and leverage financial has effect
on income smoothing.
KEYWORDS: Company Size, Profitability, Financial Leverage, smoothing earnings.
INTRODUCTION
During 2009, Indonesia's financial sector continues to grow and has been maintained. It was
supported by conducive domestic economy and visible signs of global economic recovery.
Banking as an industry that dominated the Indonesian financial sector still shows a positive
performance, despite the implementation of the economic unstable turmoil, the bank was able to
maintain a positive performance. It is seen from profitability, solvency and liquidity of banks
which are generally stable at an adequate level. In growing pressure from domestic and global
economy during 2013, Indonesia’s banking industry has successfully face the challenges and
showed positive results as seen from the aspect of intermediation, profitability and capital
structure.
Overall, the banks were able to perform the intermediation function as indicated by the amount of
public funds collected and disbursed loans. Indonesia's banking sector is expected to improve the
performance management productivity positive direction (in other words the emphasis on earnings
21
ISSN 2053-5821(Print), ISSN 2053-583X(Online)
International Journal of Small Business and Entrepreneurship Research
Vol.3, No.1, pp. 21-27, January 2014
Published by European Centre for Research Training and Development UK (www.eajournals.org)
quality and performance should be improved), and making it into the (Association of Southeast
Asia Nations) ASEAN free market in 2020 and became the largest bank in ASEAN.
Profit growth occurred in the Indonesia banking sector, was still resistant to economic crisis in
2008. It demonstrated by various indicators, such as; the rate of credit growth, adequate liquidity,
capitalization, and provisioning problem loans. Increased profits occur that affecting the stability
earnings in Indonesia, and it more likely to investor to makes an investment.
Income smoothing is closely related to the management concept of profit (earnings management).
As the management earnings, income smoothing concept also uses agency theory approach. This
theory states that earnings management is influenced by a conflict of interest between the
Management (agent) with the owner (principal) that arises when each party seeks to achieve or
maintain a level of prosperity of the company. (Masodah. 2005).Income smoothing cannot be
separated from affecting factors. In some previous studies, Masodah (2005) suggested that a
general measure of the size of the company is in buy and- sell their shares in the company on the
stock exchange, which means that if the company has issued shares in the stock exchange, the
company can be categorized as a large company. the size of the company to be one of the reasons
in doing smoothing earnings management, with the goal of providing the satisfaction of both
internal and external parties. Investor expectations of profit growth is the high rate of return on
capital that is embedded which can be measured by the ratio of profitability. Profitability ratios are
commonly used is the return on assets (ROA). ROA is used to measure the effectiveness of the
bank in generating profits by optimizing assets.
The larger the company, the greater the financial risks that must be faced by the company. Then
the other characteristics deemed to affect income smoothing Financial leverage is demonstrated
efficiency in utilizing the company owner's equity in anticipation of long-term debt and short-term.
Large debt resulting leverage ratio becomes large resulting in increased risk of investing in the
company, so that this could lead to the income smoothing.Based on the problems identification,
this study is testing whether there is a relationship between firm size, profitability and financial
leverage on income smoothing in a national private commercial foreign exchange banks in
Indonesia for period 1/1/2009-31/12/2013.The reminder of the paper is organized as follows.
Section II discusses the literature review.. Section III contains methodology. Section IV concludes
with some result and finding, Section V Discussion, Section VI. Implication to Research and
Practice, Section VII. Conclusion, Section VIII Areas for future research and finally section IX
references.
LITERATURE/THEORETICAL UNDERPINNING
Belkaoui and Ahmed (2007) states essentially an operational definition of earnings management
is the potential use of accrual management with the goal of personal gain. Scott (1997) in Masodah
(2005) supported by Sri Sulistyano (2008: 177) states that the shape or pattern of earnings
management consists of:"1) Taking a Bath
Taking a bath usually occurs in periods of stress or reorganization. This form acknowledges
expense in future periods and the loss in the current period, if the poor condition cannot be avoided.
Therefore, management should eliminate some of the assets and impose the estimated future costs.
22
ISSN 2053-5821(Print), ISSN 2053-583X(Online)
International Journal of Small Business and Entrepreneurship Research
Vol.3, No.1, pp. 21-27, January 2014
Published by European Centre for Research Training and Development UK (www.eajournals.org)
2) Profit Minimization
This form is similar to taking a bath, but performed at a very high profits obtained. How to speed
up the elimination of fixed assets and intangible assets and recognizes expense which happened as
costs. This is done with the intent to profit politically not get attention.
3) Profit Maximization
This action aims to report higher net income, for the benefit of the larger bonuses. This action is
usually done at a low earned income.
4) Income Smoothing
This action is normalized profit intentional or trends to achieve a certain level. (Belkaoui, 2000:
186)”
Income Smoothing
According Belkaoui (2006: 37), the definition of income smoothing is as follows:
"Reduction of income fluctuations from year to year by transferring income from the years of high
earnings for the periods that are less favorable. Final definition of income smoothing see it as a
phenomenon of manipulation process time profile of income or earnings to make a profit and
become less varied, while at the same time does not increase the income reported during that period
".
Purpose of Alignment Income (Income Smoothing)
The purpose of income smoothing by Foster (1986) are as follows:
1.
Improving the company's image in the eyes of outsiders that the company has a low risk.
2.
Provide relevant information to make predictions against earnings in the future.
3.
Improving the business relationship satisfaction.
4.
Improve the perception of external parties on the ability of management.
5.
Increase compensation for management.
Factor Affecting Earnings
Size of Company
Machfoedz (1994) in Suwito and Herawaty (2005) states that the size of the company is:
"A large scale which can be classified as small companies in a variety of ways, including: total
assets, the log size, the value of the stock market and others. Basically the only firm size are divided
into three categories: large companies, medium and small firms. Determining the size of the
company is based on the total assets of the company ".
Profitability
Dendawijaya (2003: 119) analysis of bank profitability ratio is a tool to analyze or measure the
level of business efficiency and profitability achieved by the bank concerned. Moreover, the ratios
in this category can also be used to measure the health of banks.
Financial Leverage
Sartono (2001: 120) states that:
"Financial leverage indicates the proportion of the use of debt to finance its investments or show
the company's capacity to meet the obligations of both for short term and long term ".
23
ISSN 2053-5821(Print), ISSN 2053-583X(Online)
International Journal of Small Business and Entrepreneurship Research
Vol.3, No.1, pp. 21-27, January 2014
Published by European Centre for Research Training and Development UK (www.eajournals.org)
METHODOLOGY
Research Methods
Population and Sample
In this study, the population are the size of the company, profitability and financial leverage of the
National Private Commercial Foreign Exchange Bank for period 1/1/2009-12/31/2013. The
sampling technique used in this study is a random sampling, so that the samples used were 10
National Private Commercial Foreign Exchange Banks for Year 1/1/2009-31/12/2013.
Data Analysis
Data analysis techniques used by researchers is econometric model. Data analyzed with the data
panel regression using the software E-Views 6.0. Individual panel data is data at a time and
provides some observations for each individual, in other words the data panel combines cross
section data with time series data.There are several common methods for estimating the regression
model with panel data, but are often used there are 3 ie, Pooled Least Square, Fixed Effects and
Random Effects. From the estimation of the three models, will be some statistical tests to see more
valid model among the three. Tests include Chow Test, Hausman Test, and LM Test.
Testing Statistics
Statistical tests in this study calculations using statistical software E-Views 6.0.
Data obtained during the research process then further analyzed to obtain more detailed results to
answer the problems that exist in this study. Analytical techniques in predicting financial
performance was conducted using multiple regression analysis with the Ordinary Least Square.
It can determine the effect of independent variables on the dependent variable.
Equation regression model in this study using a regression model to be estimated using OLS. The
equation is as follows:
RESULTS/FINDINGS
Based on calculations using the approach Fixed Effect, obtained regression model as follows:
Y = -4.03586 + 0.868498 (X1) + 0.130501 (X2) - 0.250967 (X3) +e
Calculated F value is equal to 174.2335 much larger than the magnitude of F Table 2.807.
Significance F Calculate the value was 0.000 which is smaller than α level was set at 0.05. From
both of these, then based on the criteria of experiments, we concluded that Ho is rejected and H1
is accepted. So there are statistically significant effect between firm size (log. Of Total Asset) (X1),
profitability (ROA) (X2) and financial leverage (DER) (X3), income smoothing (Index Eckel) (Y).
From the results of tests of significance in the above table obtained t value of 5.595237> t table
(1.67) and the p-value of 0.001
Vol.3, No.1, pp. 21-27, January 2014
Published by European Centre for Research Training and Development UK (www.eajournals.org)
INCOME SMOOTHING: IMPACT FACTORS, EVIDENCE IN INDONESIA
Moh. Benny Alexandri
Universitas Padjadjaran
Address : Jl. Dakota 40 Sukaraja II Bandung Indonesia 40175
Winny Karina Anjani
Universitas Padjadjaran
ABSTRACT: Indonesia's banking sector is expected to improve the performance management
productivity positive direction (in other words the emphasis on earnings quality and performance
should be improved), and making it into the (Association of Southeast Asia Nations) ASEAN free
market in 2020 and became the largest bank in ASEAN.The aim of this study are to determine the
factors that affect income smoothing on the National Private Commercial Foreign Exchange
Banks that listed in Indonesia Stock Exchange (IDX). Variables used in this study are the firm size,
profitability and financial leverage. Eckel Index (1981) was used to measure income smoothing,
where net profit after tax as income smoothing object.The sample was taken by random sampling
of 10 private foreign exchange national banks that listed in Indonesia Stock Exchange (IDX)
during the years 1/1/2009 to 31/12/2013 with a sub-sample of 50 financial reports. Testing is done
through panel data analysis technique with simultaneous test (F test) and partial test (t test) was
used to identify factors that affect income smoothing.The results showed that income smoothing is
done by most of the National Private Commercial Foreign Exchange Bank which listed on the
Indonesia Stock Exchange (IDX). The test results result are variable size of the company,
profitability and financial leverage simultaneously significant effect on income smoothing. Partial
test results are that the variable size of the company, profitability and leverage financial has effect
on income smoothing.
KEYWORDS: Company Size, Profitability, Financial Leverage, smoothing earnings.
INTRODUCTION
During 2009, Indonesia's financial sector continues to grow and has been maintained. It was
supported by conducive domestic economy and visible signs of global economic recovery.
Banking as an industry that dominated the Indonesian financial sector still shows a positive
performance, despite the implementation of the economic unstable turmoil, the bank was able to
maintain a positive performance. It is seen from profitability, solvency and liquidity of banks
which are generally stable at an adequate level. In growing pressure from domestic and global
economy during 2013, Indonesia’s banking industry has successfully face the challenges and
showed positive results as seen from the aspect of intermediation, profitability and capital
structure.
Overall, the banks were able to perform the intermediation function as indicated by the amount of
public funds collected and disbursed loans. Indonesia's banking sector is expected to improve the
performance management productivity positive direction (in other words the emphasis on earnings
21
ISSN 2053-5821(Print), ISSN 2053-583X(Online)
International Journal of Small Business and Entrepreneurship Research
Vol.3, No.1, pp. 21-27, January 2014
Published by European Centre for Research Training and Development UK (www.eajournals.org)
quality and performance should be improved), and making it into the (Association of Southeast
Asia Nations) ASEAN free market in 2020 and became the largest bank in ASEAN.
Profit growth occurred in the Indonesia banking sector, was still resistant to economic crisis in
2008. It demonstrated by various indicators, such as; the rate of credit growth, adequate liquidity,
capitalization, and provisioning problem loans. Increased profits occur that affecting the stability
earnings in Indonesia, and it more likely to investor to makes an investment.
Income smoothing is closely related to the management concept of profit (earnings management).
As the management earnings, income smoothing concept also uses agency theory approach. This
theory states that earnings management is influenced by a conflict of interest between the
Management (agent) with the owner (principal) that arises when each party seeks to achieve or
maintain a level of prosperity of the company. (Masodah. 2005).Income smoothing cannot be
separated from affecting factors. In some previous studies, Masodah (2005) suggested that a
general measure of the size of the company is in buy and- sell their shares in the company on the
stock exchange, which means that if the company has issued shares in the stock exchange, the
company can be categorized as a large company. the size of the company to be one of the reasons
in doing smoothing earnings management, with the goal of providing the satisfaction of both
internal and external parties. Investor expectations of profit growth is the high rate of return on
capital that is embedded which can be measured by the ratio of profitability. Profitability ratios are
commonly used is the return on assets (ROA). ROA is used to measure the effectiveness of the
bank in generating profits by optimizing assets.
The larger the company, the greater the financial risks that must be faced by the company. Then
the other characteristics deemed to affect income smoothing Financial leverage is demonstrated
efficiency in utilizing the company owner's equity in anticipation of long-term debt and short-term.
Large debt resulting leverage ratio becomes large resulting in increased risk of investing in the
company, so that this could lead to the income smoothing.Based on the problems identification,
this study is testing whether there is a relationship between firm size, profitability and financial
leverage on income smoothing in a national private commercial foreign exchange banks in
Indonesia for period 1/1/2009-31/12/2013.The reminder of the paper is organized as follows.
Section II discusses the literature review.. Section III contains methodology. Section IV concludes
with some result and finding, Section V Discussion, Section VI. Implication to Research and
Practice, Section VII. Conclusion, Section VIII Areas for future research and finally section IX
references.
LITERATURE/THEORETICAL UNDERPINNING
Belkaoui and Ahmed (2007) states essentially an operational definition of earnings management
is the potential use of accrual management with the goal of personal gain. Scott (1997) in Masodah
(2005) supported by Sri Sulistyano (2008: 177) states that the shape or pattern of earnings
management consists of:"1) Taking a Bath
Taking a bath usually occurs in periods of stress or reorganization. This form acknowledges
expense in future periods and the loss in the current period, if the poor condition cannot be avoided.
Therefore, management should eliminate some of the assets and impose the estimated future costs.
22
ISSN 2053-5821(Print), ISSN 2053-583X(Online)
International Journal of Small Business and Entrepreneurship Research
Vol.3, No.1, pp. 21-27, January 2014
Published by European Centre for Research Training and Development UK (www.eajournals.org)
2) Profit Minimization
This form is similar to taking a bath, but performed at a very high profits obtained. How to speed
up the elimination of fixed assets and intangible assets and recognizes expense which happened as
costs. This is done with the intent to profit politically not get attention.
3) Profit Maximization
This action aims to report higher net income, for the benefit of the larger bonuses. This action is
usually done at a low earned income.
4) Income Smoothing
This action is normalized profit intentional or trends to achieve a certain level. (Belkaoui, 2000:
186)”
Income Smoothing
According Belkaoui (2006: 37), the definition of income smoothing is as follows:
"Reduction of income fluctuations from year to year by transferring income from the years of high
earnings for the periods that are less favorable. Final definition of income smoothing see it as a
phenomenon of manipulation process time profile of income or earnings to make a profit and
become less varied, while at the same time does not increase the income reported during that period
".
Purpose of Alignment Income (Income Smoothing)
The purpose of income smoothing by Foster (1986) are as follows:
1.
Improving the company's image in the eyes of outsiders that the company has a low risk.
2.
Provide relevant information to make predictions against earnings in the future.
3.
Improving the business relationship satisfaction.
4.
Improve the perception of external parties on the ability of management.
5.
Increase compensation for management.
Factor Affecting Earnings
Size of Company
Machfoedz (1994) in Suwito and Herawaty (2005) states that the size of the company is:
"A large scale which can be classified as small companies in a variety of ways, including: total
assets, the log size, the value of the stock market and others. Basically the only firm size are divided
into three categories: large companies, medium and small firms. Determining the size of the
company is based on the total assets of the company ".
Profitability
Dendawijaya (2003: 119) analysis of bank profitability ratio is a tool to analyze or measure the
level of business efficiency and profitability achieved by the bank concerned. Moreover, the ratios
in this category can also be used to measure the health of banks.
Financial Leverage
Sartono (2001: 120) states that:
"Financial leverage indicates the proportion of the use of debt to finance its investments or show
the company's capacity to meet the obligations of both for short term and long term ".
23
ISSN 2053-5821(Print), ISSN 2053-583X(Online)
International Journal of Small Business and Entrepreneurship Research
Vol.3, No.1, pp. 21-27, January 2014
Published by European Centre for Research Training and Development UK (www.eajournals.org)
METHODOLOGY
Research Methods
Population and Sample
In this study, the population are the size of the company, profitability and financial leverage of the
National Private Commercial Foreign Exchange Bank for period 1/1/2009-12/31/2013. The
sampling technique used in this study is a random sampling, so that the samples used were 10
National Private Commercial Foreign Exchange Banks for Year 1/1/2009-31/12/2013.
Data Analysis
Data analysis techniques used by researchers is econometric model. Data analyzed with the data
panel regression using the software E-Views 6.0. Individual panel data is data at a time and
provides some observations for each individual, in other words the data panel combines cross
section data with time series data.There are several common methods for estimating the regression
model with panel data, but are often used there are 3 ie, Pooled Least Square, Fixed Effects and
Random Effects. From the estimation of the three models, will be some statistical tests to see more
valid model among the three. Tests include Chow Test, Hausman Test, and LM Test.
Testing Statistics
Statistical tests in this study calculations using statistical software E-Views 6.0.
Data obtained during the research process then further analyzed to obtain more detailed results to
answer the problems that exist in this study. Analytical techniques in predicting financial
performance was conducted using multiple regression analysis with the Ordinary Least Square.
It can determine the effect of independent variables on the dependent variable.
Equation regression model in this study using a regression model to be estimated using OLS. The
equation is as follows:
RESULTS/FINDINGS
Based on calculations using the approach Fixed Effect, obtained regression model as follows:
Y = -4.03586 + 0.868498 (X1) + 0.130501 (X2) - 0.250967 (X3) +e
Calculated F value is equal to 174.2335 much larger than the magnitude of F Table 2.807.
Significance F Calculate the value was 0.000 which is smaller than α level was set at 0.05. From
both of these, then based on the criteria of experiments, we concluded that Ho is rejected and H1
is accepted. So there are statistically significant effect between firm size (log. Of Total Asset) (X1),
profitability (ROA) (X2) and financial leverage (DER) (X3), income smoothing (Index Eckel) (Y).
From the results of tests of significance in the above table obtained t value of 5.595237> t table
(1.67) and the p-value of 0.001